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Are Public Sector Contracts Doomed To Fail?


The issues that forced the resignation of US Health Secretary Mary Sebelius are just one example of the complex challenges facing those in the health service today. Spiralling costs, driven by ever-rising social expectations, are forcing a major re-think in the structuring and delivery of services. While the specific challenges may vary between countries, this is a global phenomenon – and not restricted to the health sector.

The immediate cause of Ms. Sebelius’ departure was the disastrous roll-out of a new website that lay at the heart of healthcare reform. As with most changes in the field of health, the reform itself has been bitterly contested and political opponents have been quick to jump on any misstep. It often seems to be the case these days that technology acquisition lies at the root of program failure and enormous cost overruns. Surely, with all the investment there has been in advanced Procurement skills and training, we should be able to avoid these disasters?

In fact, the investments in Procurement may have made the problems worse, because they are too narrowly focused and have resulted in a false sense of security. As Dan Gordon, former US Administrator for Federal Procurement Policy, observed at a recent World Bank conference, ‘the perfect procurement’ does not ensure ‘the perfect outcome’. The procurement process is just one element of acquisition and – as the UK Government has recognized – does not adequately address selection of the right supplier or ensure effective management of post-award performance.

Government and public sector agencies must adjust to the fact that rapid change is now the norm, not the exception. They will face constant demands for innovation as they seek to reconcile expectations for improved services with resistance to increased costs. Growing dependence on external suppliers and stakeholders requires answers to new questions – such as “What service delivery models can we use? What factors cause so many major procurements to deliver the wrong outcome? What performance management techniques are needed?’

It is in fact remarkable that so many large organizations in both public and private sector continue to engage in expensive, high-profile projects with very little understanding of the factors that affect the quality of results. Increasingly, research is available, but it is largely ignored. An example is the role of contracts, which may be seen as part of the solution, but tend to be entrusted to another powerful professional group – the lawyers. As a result, contracts for complex projects are mostly unintelligible due to their length, confusing structure and use of archaic forms of expression. In the public sector, they may also be designed to address policies or practices that no longer reflect market norms or realities.

Public sector procurement suffers from this deadly combination of ‘the perfect procurement’ and ‘the perfect contract’, which together act as constraints on effective communication, selection and management of buyer-supplier relationships. Better results depend upon a readiness by Government ministers and their executives to challenge current approaches and to recognize that successful change demands commercial innovation and radically improved acquisition capabilities.

 

It pays to be at the top


People at senior levels are paid more. That’s no surprise. But IACCM’s most recent salary survey suggests that those at the top are beginning to increase the differential, with average pay for a functional leader jumping by almost 20% in the last year, while those in more junior roles have seen increases of only 2 – 3%.

It is also interesting that geographic differentials appear to reduce at more senior levels, perhaps reflecting a more global market for talent even in a field like contract and commercial management. While analysis is not yet complete for all geographies, a comparison between the UK and North America shows that professionals in the UK lag about 12% behind their North American colleagues. However, at Director level, this reduces to only 1%.

The bonus culture also shows some geographic divide, with 44% of those in the US reporting annual payments of 11% or more, against only 30% receiving this level of award in the UK. Both regions show a decline in those who are dissatisfied with their salary – in North America there has been a drop from 40% to 23%, in the UK the decline has been less, from 40% to 31%.

Having a global perspective continues to pay dividends in the US, with salaries for those with worldwide responsibility some 25% higher than those with purely local focus. This contrasts with the UK, where a more international outlook results in just 6% more pay.

For those contract and commercial professionals who wish to maximize their salaries, what should you be doing? Apart from getting yourself promoted, it seems it remains best to be in Sales contracting (rather than Procurement); it is best to be in a large company ($5bn or more annual revenue); it is best to be in a combined pre- and post-award role (if you specialize, pre-award continues to pay about 9 – 12% more than post-award); it is worth having an MBA; and you should aim to be in the outsourcing / services / consulting sector (though in North America, oil and gas is a good alternative and in the UK you might try IT / Telecoms).

The salary report summaries for North America and the UK are now available on the IACCM web site.

 

Will regulation eliminate the need for contract negotiation?


Take a look at this article describing the terms that are now impacted by regulation in the financial services industry. The list is so extensive that the scope for meaningful negotiation appears severely reduced. Already, we are seeing pressure for the creation of industry standards (and indeed, IACCM is working with a large group of international corporations on exactly this topic).

Where finance leads, it seems likely that other industries (and regulators) will follow, leaving the quality of contractual obligations far less to chance or the relative power of the negotiators. So does this mean that contract negotiation will steadily become a thing of the past, replaced by a set of formulaic standards?

I believe the answer is that the focus of negotiations will change substantially over the next few years. Time spent on liabilities, indemnities, intellectual property, data security – essentially, the clauses seen as ‘legal’ – will diminish or disappear because responsibility for risk consequence will become largely non-negotiable. As a result, the parties will become far more concerned with the terms that affect risk likelihood – that is, the more technical aspects of scope, performance criteria and change management – and those that motivate performance – price or charge mechanisms, financial incentives, governance systems.

In this environment, front-end skills in deal or project structuring and back-end skills in contract management become of fundamental importance. Indeed, they are almost implicit in the regulations. Financial institutions must be able to show they have invested in competency in these areas and their suppliers will be challenged to show their capabilities as a requirement of selection.

Elements of these changes are already visible. Many banks and insurance companies are developing their contract management organization and tools; several are inserting questions about supplier commercial capability in their RFPs and selection criteria. But we are still at the beginning of the journey – and the question remains, to what extent will regulators start to drive similar changes in other industries as part of overall improvements in corporate governance?

 

 

Software & the future of patent litigation


Software today is all-pervasive. No matter what industry you are in, or what products or services you buy and sell, a high proportion of contracts will have some sort of clause related to embedded or related software. And of course, along with that software come a range of contract clauses relating to IP ownership, rights of use and associated indemnities. Many products or services today are of no practical use without the associated software, which has made this a highly contentious field, especially since the legislation on which software patents are based is mostly around 6o years old.

Last week, the US Supreme Court heard a case that is predicted to update the rules related to software patents. With about half of today’s patent trolls related to software, there is pressure to increase the rigor in their award. Many argue that the US Patent Office has been far too lenient in its decisions over whether something is truly new or innovative, thereby encouraging unwanted volumes of litigation and potentially frustrating competition.

Inside Counsel carried a brief article that explains the background to the Supreme Court case and what is at stake. Behind the scenes, there is plenty of lobbying, with industry giants such as IBM wanting limited change and Google advocating more fundamental liberalization of current laws. My sentiments are with those who want to see far more rigor in the definition of ‘new’. My experience is that patents today are being used to crush start-ups and competitors who cannot possibly afford the cost of litigation. Many of the ideas that achieved patent status have little merit and in many cases were filed only to prevent competition or extract licensing fees. This also carries a heavy cost for the consumer – an issue highlighted by Steve Pociask on Huffington Post last year and priced as being at least $42bn in the US alone back in 2010.

A wake-up call for contract and commercial management


If it costs over 500 million Euros, it’s a Megaproject. An awful lot of them – some 65% – go wrong, substantially overshooting on budget or experiencing major delay. And since governments worldwide are expected to spend around 100 trillion euros on such projects over the next 15 years, their performance really matters.

 

Yesterday I attended a Megaproject conference where delegates – mostly academics – were pooling research aimed at understanding how success rates can be improved. The trouble is, we don’t really seem to know. And to the extent we do know, it appears better commercial management lies at the core.

 

Until now, the problems affecting megaproject performance have been perceived largely as issues for project management. However, the evidence – thin though it is – appears to point more towards weaknesses in stakeholder analysis, relationship definition, coordination and management. These are capabilities that should be provided through commercial skills and addressed through effective contracting structures and management.

Specifically, the major findings from research have been:

  • A need for ‘special purpose entities’ (SPEs). Essentially this is about defining the best relationship model for the project and structuring the organization for its delivery. An SPE is generally a newly structured company or joint venture.
  • A need for ‘modularization’. This is essentially about work breakdown and may take several forms, but is especially relevant in addressing some of the more common contract management issues, such as disagreement over scope and goals or contention over change management. Modularization could affect how and where work gets done; but it is executed through separation of contracts and might (I believe) include the type of ‘modularization’ one would see in agile contracting.
  • Impact of external stakeholders. This is an area that should be very familiar to any commercial manager – the need for thorough stakeholder analysis and reconciliation of their views. Beyond that, in megaprojects, consideration of external stakeholder needs may generate creative ideas for additional value; it will certainly influence how the project is presented, its value proposition and, therefore, will potentially alter scope and goals.
  • Establishing effective performance criteria and management. The business model for megaprojects varies. The criteria that need to be managed also vary – for example, the duration, the likelihood of cost overruns or delays. But in these complex environments, there need to be more measures than the traditional time, cost and quality. For example, behavioral characteristics or agile budgeting might be examples of additional areas requiring active management, as well as the characteristics identified as elements of relational contracting.

Professor Naomi Brookes provided valuable insight when she observed that the ideas being applied in the structuring and management of megaprojects are mostly decades old and never truly tested or validated; they were mostly developed for smaller projects; and they tend to be driven by the buyer or funding agency. In other words, without effective research, contract and commercial management will remain an area of guesswork and far too many projects will continue to under-deliver. That is why IACCM is so determined in pushing the research agenda and raising the skills and competencies within member organizations. It is time for the practitioner community to awaken to the scale of need and opportunity that this represents and to become far more active in support and advocacy of improved commercial and contracting standards. 

Collaboration begins at home


There is frequent debate about who to blame for the lack of cooperation between buyers and sellers. Dealmakers and negotiators are almost universal in their theoretical support for ‘win-win’ relationships, yet in practice they are achieved far too rarely.

IACCM’s annual study on the state of negotiations consistently identifies two major causes. Top of the list is ‘resistance by the other side’, but close behind comes ‘resistance within my own organization’.

If we cannot collaborate internally, it is hardly surprising that we struggle to do so externally. Indeed, those internal divisions are often only too evident. They range from disagreement between members of the negotiating team, to inability to make commitments in a timely manner, to inconsistent or withdrawn positions. Such behavior is scarcely likely to build confidence on the other side and understandably leads them to take protective measures.

By failing to address internal cooperation, businesses lose in a number of ways. Obviously they are harder to do business with and therefore lose value opportunities. But they also create a culture of adversarialism or avoidance which makes a change of style almost impossible to achieve. Rather than expanding knowledge and understanding alternative viewpoints, staff in these businesses tend to become entrenched in their position and are more inclined to blame others for their failings.

Making a start on improvement is not that difficult. It can begin within a single function. For example, the Law Department within several IACCM members has had its buy-side and sell-side attorneys ‘negotiate’ their contracts with each other. The polarity of their respective positions becomes hard to defend in such an environment and each emerges with a more enlightened view. In most cases, they finish up with revised terms and conditions that make them more attractive as a trading partner.

But going beyond this, in larger companies, the barriers between Procurement and Sales Contracting personnel are typically even higher. They rarely speak with each other and, when they do, it is often to trade insults. If only they worked together and instead traded skills and knowledge, how much more effective both could be when dealing externally. Good negotiation training does not have to be expensive; it truly can begin by practicing internally and expanding viewpoints in a safe environment. 

Change management in a time of chaos


In previous blogs, I have highlighted the challenge of managing change in today’s contracts. The frequency of change has increased, the causes of change are more varied, yet the mechanisms through which change requirements are identified and managed have failed to keep pace.

Today I read two articles that illustrate the scale of the uncertainty faced by contract and commercial managers. In Strategy+Business, Eric McNulty suggests there is no more ‘business as usual’. He cites the volatile nature of today’s society and politics, with widespread disillusionment resulting in turbulent market conditions. This, he suggests, not only makes it difficult for Corporate leadership to predict where they should invest, but it also places individual businesses at risk. Who knows what issue might inflame local opinion? Whether it is Coca-Cola and water usage or Starbucks and tax avoidance, issues can arise almost without warning and rapidly become viral.

McNulty highlights three areas for focus:

- Understanding society as a system

- Managing the tension between urban have’s and have-not’s

- Leading in an era of short supply

There are many implications for anyone negotiating or managing contracts. For example, what impact will a particular contract or project have on people’s lives and how will it be perceived or (mis)represented? What effect might this have on the structuring or performance of the agreement? What mechanisms may be used to address previously ignored stakeholders – for example, can we gain local support through creating employment opportunities or by investing in local infrastructure projects as a by-product of the contract? What supply risks must be managed in order to ensure delivery against contract commitments?

Overall, just as society is starting to operate as an interconnected system, contracts and commercial managers will need to become far more astute in anticipating and understanding interconnections in their project or markets. Buy side and sell side integration must occur within the enterprise. Commercial solutions must be more creative and more inclusive than in the past, engaging and managing complex stakeholder ecosystems. Project economics will need to evaluate the social balance sheet because this will increasingly determine the opportunities for profitable operations.

In my experience, the companies that succeed are likely to be those most adept in handling less developed international markets. It is here that commercial creativity is often most evident. Such markets demand innovative solutions such as new partnerships or channels; they also require far more adaptive systems due to their relative volatility and unpredictability.

The second article, by Richard Branson, is on the State of Government  and examines the role of business in the development of democracy. It simply reinforces the points being made by Eric McNulty; we live in a time of rapid and unpredictable change, an environment which requires creative and adaptive minds and mechanisms. A time, in other words, when those with commercial skills must ensure they are taking a truly global view both to sustain their business and also to develop their personal contribution.

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